Notes From Sohn San Francisco 2016: Morfit, McGuire, Palihapitiya & More

Below are notes from the 2016 Sohn San Francisco investment conference where investment managers presented their latest ideas to benefit charities.  We also posted up notes from the Next Wave Sohn San Francisco conference as well that featured emerging managers.

Notes From Sohn San Francisco 2016 Conference


Mason Morfit, ValueAct Capital

• Idea: Long Morgan Stanley (MS)
• Try to find businesses with enduring franchise value
• 3 defined business units
• 7 defined revenue types
• Did a lot of work to understand the unit economics
• 75% of the revenue and 85% of the profit come from asset light fee based businesses (not capital intensive businesses)
• Long term trend is very positive
• MS has maintained and in some cases grown its share in wealth management and investment banking advisory 
• Risk factors: earnings decline, principal loss, liquidity/access to capital

Mick McGuire, Marcato Capital Management

• Idea: Long Buffalo Wild Wings (BWLD)
• Owns 5% of the company
• Differentiated concept focused on wings, beers, sports
• ~1,200 units with potential to grow to 1,700 units
• Long history of industry leading same store sales (SSS) growth
• Central component of investment thesis:
• Differentiated concept with long runway for growth
• SSS declines and capital allocation missteps have hurt shares
• Opportunity to create shareholder value by: transitioning to a 90%+ franchised model by 2020, improve 4 wall margins (several hundred bps opportunity), and optimize capital structure
• Multiple has compressed as traffic has slowed and costs continue to rise
• When growth slowed, BWLD acquired franchised stores for high multiples
• Average replacement cost is ~$2.3mm per unit but in 2015, spent $3.5mm per unit - overpaid; bad use of capital
• Incentives are weighted singularly towards growth, not ROI
• While unit volumes have increased significantly since IPO, ROI has decreased because the cost to build a unit has increased
• Franchised businesses command higher multiples; higher franchise mix correlated with higher multiples
• BWLD is 50/50 today but recommending that they go to 90% franchised model by refranchising units at multiple of 6.0x EBITDA
• Valuation: if they can move to a higher franchised model range of value from $218 to $311 (versus ~$141 today)

Chamath Palihapitiya, Social Capital

•  Primarily invests in fast growing private tech companies
• Multi-trillion dollar opportunity hiding in plain sight
• Retail will be a $1T business by 2025
• Every company succeeds based on three factors: build a great product with great market fit, develops adjacent products in deep verticals, invests in features to drive ARPU
• Amazon (AMZN) thesis based on AWS and outsourcing infrastructure spending and moving it to the cloud; reshaping economics by taking out costs
• Similar concept for software that will move to the cloud

• Idea: Long Workday (WDAY) 
• $100bn opportunity in 10 years; 20% IRR
• Workday is the system of record for HR and is viewed as the best in class product among CIOs
• Leading market share supporting the largest global employee bases including Samsung, McDonalds, IBM
• HCM product manages 19mm employees on behalf of its employers
• Adjacent products in deep verticals: Workday Financials - system of record to manage financials; now manages financials for global companies
• Invest in features to drive ARPU (payroll and many other features)
• Rapid pace of innovation
• Workday competes against Oracle (ORCL) and SAP (SAP)
• Lowest spend on M7A over the last 5 years
• "M&A is what you do when what you do doesn't work anymore."
• Done< $0.3bn over last 5 years, SAP and Oracle have had a lot of M&A
• Netflix ability to close the books and file with the SEC went down significantly with Workday versus Oracle
• Workday is an enterprise product company
• Best management team in software
• Fully aligned, long term oriented
• 97% customer satisfaction; very high consistent with consumer tech like Facebook, Google, Apple but this is enterprise tech
• Following the Salesforce playbook but doing it better
• $100bn company in 10 years

Carson Block, Muddy Waters Capital

• Idea: Short Tutor Perini (TPC)
• Construction company
• Nearly all analysts have the stock as a buy
• FCF is the Achilles heel - the company bleeds cash in working capital driven by growing accounts receivable
• Loan agreement has been amended 6 times in 5 years and there is a chance that banks could pull RC facility; Business has $94mm of cash on BS but 79% of cash sits in JV so it could run into a major liquidity problem
• 4 CFOs over 9 years
• Summary: business can't consistently generate cash, projected earnings growth highly questionable, lack of management credibility, and liquidity could become challenged

Mihir Wohra, PIMCO

• Idea #1: Rates trade - Hawkish Fed
• Market is currently underpricing the possibility of a Fed hike or that there will just be one hike
• Buy a pair: buy a put on the 1 year rate

• Idea #2: Dovish Fed - Buy REITs
• REIT prices tend to be correlated to equities over the short-term but underlying economic factors prevail over the long term
• Will do well if Fed doesn't raise rates or cuts

• Idea #3: Commodities trade: Long call options on 2018 Natural Gas - No Fed correlation
• In the midst of global price convergence that will pull US natural gas prices higher while lowering global prices; US is opening new LNG export terminals and US nat gas is the cheapest in the world so there are buyers
• Buying 2018 at a discount to 2017 is attractive given US LNG exports are only increasing over the next few years

• Idea #4: Bonus trade: sell puts / buy calls on October VIX Futures
• Volatility should rise towards long term averages if election stays close
• Volatility could rise more if Trump probability of winning increases

• Idea #5: Bonus trade: Currencies - works if Trump win probability decreases
• Mexican peso has significantly underperformed other EM and commodity currencies in 2016 due to possibility of Trump victory and tougher US policies toward Mexico

Jeff Osher, Harvest Capital Strategies

• Idea: Long Echostar (SATS)
• Global provider of satellite services, video, delivery solutions and broadband satellite technologies
• Echostar Technologies: set top box business with $1.3bn revenue; $100mm EBITDA, 7.6% EBITDA margins
• Satellite services: $445mm revenue; 84% EBITDA margins; very good business with long dated contracts
• HughesNet: $1/4bn revenue; provide consumer broadband for households that can't get wired broadband
• Duopoly: Hughes and Viasat
• Hughes has 1mm subscribers with 30% EBITDA margin
• Business is capacity constrained
• 2016 launches will drive 50% revenue growth for Hughes within 3 years.  Given higher incremental margins, EBITDA should nearly double
• Sum of the parts valuation results in target price of $71.76 (versus today at ~$44)
• Other actions could result in homerun scenarios: Echostar Technologies divestiture, Echo Mobile, Dish Mexico, Sling TV, Brazil orbital slot, Pay TV, positioning for opportunistic M&A

Joseph Lawler MD, JFL Capital Management

• Idea: Short IP Group (IPO.LSE)
• Publicly traded fund that invests in healthcare companies
• Most publicly traded investment firms trade at a discount to NAV but IPO trades at a premium
• Adverse selection process - they seem to invest in companies that other VCs have passed on
• Investments are overvalued especially investment in Oxford Nanopore.  It's a DNA sequencing company; the cost of DNA sequencing has gone down significantly and has become commoditized

Arjun Divecha, Grantham May Van Otterloo & Co

• Idea: Investing in Indian financials (non state-owned banks)
• Never think of an emerging market as a place to permanently put capital
• India from a long term point of view looks pretty good as a place to invest - well positioned for economic growth over next 5 years
• Private sector financials are taking market share away from state owned banks
• Dependency ratio looks pretty good in the future versus other countries like US, Japan, and China.  Dependency ratio = ratio of non-working to working people
• India looks good because of improving fiscal discipline, improving inflation, current account benefiting from oil windfall (big importer of oil), capacity utilization is very low
• India is massively under-urbanized
• Household debt to GDP is 9% versus US where it is ~100%
• Huge scope for increase in consumer loans
• Pitch was about investing in non state-owned banks, like publicly traded ones such as HDFC Bank, Axis Bank, IndusInd Bank and Yes Bank; State owned banks can't make loans anymore due to loan issues
• The private banks are very well run; 3-6-3 banks
• Not easy for foreign investors - must have access to local market
• HDFC Bank (HDB) and ICICI Bank (IBN) are listed on the NYSE 
• 4-5% net interest margins
• Valuations are high but earnings growth has historically justified high valuation
• HDFC trading at 4.5x price to book
• 26.7% earnings growth over 20 years
• Thesis summary: well positioned for economic growth, low penetration of financial sector, well run financials are taking market share from well run banks

Peter Palmedo, Sun Valley Gold

• Idea: Gold: data and dogma
• Discovered Summers-Barsky Gold Thesis: price of gold is driven by the real return in capital markets
• From 2002 to 2015 gold real return was 7.9% versus a blended real return of 4.5%
• China gold demand in excess of domestic supply
• Most PMs hold unsubstantiated beliefs about gold but the algorithmic, data driven models will get it
• Own gold in the simplest form
• Cheap, safe and stable; think about gold in the context of portfolio insurance and risk diversification 
• Buy gold if you think we are in a low real return world

Be sure to also check out the presentations from the Next Wave Sohn San Francisco conference as well, which featured emerging fund managers.

Tybourne Capital Ups Workday Stake

Eashwar Krishnan's hedge fund firm Tybourne Capital has filed a 13G with the SEC regarding its stake in Workday (WDAY).  Per the filing, Tybourne now owns 2.5% of the company with over 2.95 million shares.

This is an increase from the 1.23 million shares Tybourne reported owning at the end of 2015.  The filing was made due to activity on March 31st and was made voluntarily even though they're not past the 5% ownership threshold usually required for reporting.

Prior to founding Tybourne, Krishnan worked at Lone Pine Capital.

Per Google Finance, Workday is "a provider of enterprise cloud applications for finance and human resources. The Company delivers financial management, human capital management and analytics applications designed for a range of companies, educational institutions and government agencies. The Company's applications include Workday Financial Management, Workday Human Capital Management (Workday HCM) and Workday Insight Applications. Workday Financial Management is a unified application built on a single, global core with a range of financial capabilities, relevant analytics and metrics, and an auditable process management built to help manage financial processes for global organizations. Workday HCM enables an organization to staff, pay, organize, and develop its global workforce. Workday Insight Applications is a suite of applications that leverage advanced data science and machine learning methodologies to help customers make financial and workforce decisions."

Lone Pine Capital Ramps Up Workday Stake

Steve Mandel's hedge fund firm Lone Pine Capital on Monday filed a 13G with the SEC regarding shares of Workday (WDAY).  Per the filing, Lone Pine has disclosed a 9.35% ownership stake in WDAY with 3,522,285 shares.

This marks a 259% increase in the hedge fund's position size since the end of the fourth quarter when they owned just over 980,000 shares.  The 13G was required due to portfolio activity on April 10th.

In other activity from the hedge fund, last week we pointed out that Lone Pine boosted its Lululemon stake.

About Workday

Per Google Finance, Workday is "a provider of enterprise cloud-based applications for human capital management (HCM), payroll, financial management, time tracking, procurement and employee expense management. It is focused on the consumer Internet experience and cloud delivery model. Its applications are designed for global enterprises to manage complex and dynamic operating environments. The Company provides its customers the applications to manage critical business functions for their financial and human capital resources."

Other Hedge Funds Involved

Workday went public in October of 2012 and numerous hedge funds participated in its initial public offering.  At the end of 2012, some of the largest holders of WDAY shares included the likes of Blue Ridge Capital, Lone Pine Capital, Tiger Global, and Dorsal Capital.  The largest disclosed owner seems to be venture capital firm Greylock Partners.


Steve Mandel was recently named one of the top 10 highest paid hedge fund managers of 2012.  You can see additional portfolio activity from Lone Pine here.

Contrafund's Will Danoff Bullish For 2013: What Stocks He Likes

Will Danoff is manager of Fidelity's Contrafund and he recently sat down with Fidelity Viewpoints to share his outlook for 2013.  He's bullish and so we wanted to highlight what stocks he's looking at.


On Why He's Bullish This Year

"I’m bullish. Stocks are relatively cheap, and U.S. companies have become much leaner. Management teams were worried about the environment, so they were conserving cash and allocating capital prudently. M&A activity was down about 20% in 2012. Boards were saying, 'We’re not going for the long ball. We’re going to focus on maintaining lean inventories, low capital spending, and tight expenses.' As a result, companies are nicely profitable and generating a lot of cash.

So looking forward, I’m hopeful that we’re going to have modest top-line growth that will lead to decent earnings-per-share growth, good free-cash-flow yields, and total returns that may be a lot better than what we will see from cash and bonds."

He also went on to say that,

"My guess is a year from now the economy’s going to improve and stocks are going to be a good place to be. I’m bullish. So, I think if you’re in cash, you have to really think hard about it and say, 'How much cash do I really need?'"

This is a concept that's been talked about by many managers, including Bridgewater's Ray Dalio who said cash will move into 'stuff' in 2013.  David Tepper of Appaloosa Management has also been quite bullish.


What Stocks He Likes

Danoff notes that the key to his strategy has been identifying the best companies in each industry.  There's a few themes/industries he likes this year, and they all seem hinged on an economic recovery: housing, manufacturing, and industrials.

In particular, the Contrafund manager says he's finding most opportunities that should benefit from more competitive US manufacturing (companies are moving plants back from overseas).

He also likes US companies with lots of international exposure, like Colgate-Palmolive (CL), Estee Lauder (EL), and Starbucks (SBUX).

In tech, he likes internet plays such as Google (GOOG), Facebook (FB), and Yahoo (YHOO).  He also is bullish on the software as a service trend, fancying the likes of Workday (WDAY), Salesforce.com (CRM), and Concur (CNQR).


On Tech Giants Google (GOOG) & Apple (AAPL)

These two tech giants are some of his fund's largest holdings.

Danoff's take on Google: "The stock has done basically nothing since 2007, but the earnings have roughly doubled, and the company is generating a huge amount of free cash flow—we estimate the stock is producing roughly a 9% free-cash-flow yield. And net of the cash, the stock has been trading around 13 times earnings while core revenues have been growing almost 20% annually. So I have believed that Google could continue to grow and had the potential for P/E (price-to-earning multiple) expansion."

We've also highlighted how Ricky Sandler's hedge fund Eminence Capital has been bullish on Google as well as it's their largest position at around a 9% position for them.

Danoff also notes that AAPL has been a good holding for his fund as the company's been generating a ton of free cash flow.  The problem is that most of it is overseas (and it's a massive amount of money too) and he also pointed out that competition has intensified in the smartphone and tablet markets.  You can read more of Danoff's outlook here.

John Griffin's Blue Ridge Capital Discloses New Stake in Workday (WDAY)

John Griffin's hedge fund firm Blue Ridge Capital filed a 13G with the SEC regarding shares of Workday (WDAY).  Per the filing, Blue Ridge has revealed a 6.87% ownership stake in WDAY with 1,798,000 shares.

This is a brand new position for the hedge fund and the company just began trading on October 15th.  There's no way to know for sure if they participated in the IPO, but the reason that is important to point out is because shares spiked 70% from the IPO price so there's obviously a big difference in cost basis depending on where they purchased shares.

Due to portfolio activity on October 18th, Blue Ridge crossed the threshold that requires public disclosure of their stake.  Workday competes in the software as a service (SaaS) segment.

Per Google Finance, Workday is "a provider of enterprise cloud-based applications for human capital management (HCM), payroll, financial management, time tracking, procurement and employee expense management. It is focused on the consumer Internet experience and cloud delivery model. Its applications are designed for global enterprises to manage complex and dynamic operating environments."

We've also covered other recent portfolio activity from Blue Ridge as well.